Luxembourg to introduce defensive tax measures on certain payments to blacklisted countries

On 30 March 2020, Luxembourg draft law No. 7547 was published (the “Bill”). The Bill aims to disallow, in Luxembourg, the deduction of interest and royalty expenses owed to entities or persons located in non-cooperative jurisdictions. 

This proposed new rule targets the EU blacklisted jurisdictions and is part of the additional tax defensive measures that EU Member States had committed to implement into respective domestic law at the November 2019 ECOFIN meeting.

According to the Bill, the tax deductibility of interest and royalties paid or due to associated enterprises located in a blacklisted country may be denied subject to the following:

• The foreign recipient of the interest or royalty payments is:

1. - a collective undertaking within the meaning of Article 159 of the Luxembourg income tax law (“LITL”), i.e. a tax opaque entity. Hence, payments made to a partnership should not fall within the scope of the proposed new rule;
2. - an associated enterprise within the meaning of Article 56 LITL. Under Article 56 LITL, two enterprises are deemed associated when one enterprise participates, directly or indirectly, in the management, control or share capital of the other, or if the same persons participate, directly or indirectly, in the management or share capital of both enterprises;
3. - an undertaking or beneficial owner established in a jurisdiction or a territory that is blacklisted by Luxembourg. The Luxembourg blacklist would be determined once a year based on the latest updated version of the EU list of non-cooperative jurisdictions for tax purposes available at this time. However, the proposed new rule would cease to apply as soon as the country or territory concerned is removed from the EU published blacklist. Twelve jurisdictions are currently on the EU blacklist: American Samoa, Cayman Islands, Fiji, Guam, Oman, Palau, Panama, Samoa, Trinidad and Tobago, US Virgin Islands, Vanuatu and the Seychelles.  

• The definitions of interest and royalties are based on those provided under Article 2 of the interest and royalties Directive 2003/49:

1. - interest is defined by the Bill as income from debt claims of every kind, whether or not secured by mortgage and whether or not carrying a right to participate in the debtor's profits and, in particular, income from securities and income from bonds or debentures, including premiums and prizes attaching to such securities, bonds or debentures; penalty charges for late payment shall not be regarded as interest;
2. - royalties is defined by the Bill as payments of any kind received as a consideration for the use of, or the right to use, any copyright of literary, artistic or scientific work, including cinematograph films and software, any patent, trade mark, design or model, plan, secret formula or process, or for information concerning industrial, commercial or scientific experience; payments for the use of, or the right to use, industrial, commercial or scientific equipment shall be regarded as royalties;

• The deduction of interest or royalties will not be refused if the taxpayer can prove that the transaction was implemented for valid commercial reasons that reflect economic reality. 
• Where the deduction of interest is entirely denied under the proposed new rule, the interest limitation rule laid down in Article 168 bis LITL (see our Article dated 10 July 2018) is not applicable.
• The Luxembourg tax authorities’ defensive measures detailed in Circular L.G. - A No. 64 dated 7 May 2018 aiming at strengthening tax audit in Luxembourg on structures or arrangements involving the countries on EU blacklist will continue to apply.
• The proposed new rule would be applicable to interest or royalties paid or accrued as of 1 January 2021.